Why Tariffs Won’t Create Jobs Or Help The Auto Industry

At a mid-November hearing before the United States International Trade Commission, several US automaker groups complained that proposed car tariffs would undermine the success of the US-Mexico-Canada Agreement (USMCA) and cause heavy job losses for the car sector.1

The main US car-producer association — the US Alliance of Automobile Manufacturers disapproved2 of (i) the rules requiring higher North American regional content of imports, (ii) the side letters signed with Canada and Mexico that introduce de facto quotas for car imports exempted from any increases in tariffs, and (iii) the ongoing Section 232 National Security Investigation that may end-up with tariff imposition on national security grounds.3

According to theAlliance, the negative economic fallout from car tariffs may include the loss of about 700,000 jobs across the country. This is not surprising given the sizable footprint of the US car industry that contributes about 3.5 percent to GDP and employs more than seven million workers. Already the imposition of the steel and aluminum tariffs has cost the industry billions of dollars.

At first sight such a negative reaction from an industry that is about to obtain substantial protection against foreign competitors seems paradoxical. After all, it is common knowledge that curtailing imports benefits domestic producers at the expense of consumers within the “protected” area.4

A valid explanation for this seeming paradox could be the high degree of international specialization and integration of US domestic car production into global value chains. The United States imported about $340 billion of passenger vehicles, light trucks and car parts in 2017.5 Although it recorded a trade deficit in the automobile sector, its exports were nonetheless significant at almost $144 billion. If we look for an example at the economic relations with the European car manufacturers, we learn that in 2017, the latter made close to 2.9 million passenger cars in the US, representing 26% of the total US production. Surprisingly enough, several EU carmakers have their biggest plants not in the EU, but in the US. And about 60% of all passenger cars they manufacture in the US are exported to third countries, including the EU itself.6

A first lesson to draw is that in the case of highly globalized supply chains, the benefits of external trade protection to local producers become less obvious.7 That is, in order to make cars, manufacturers must import a wide variety of parts and materials. In addition, protectionist measures become detrimental to US car exports, because of potential retaliatory measures by foreign trade partners. For example, Tesla has just announced that it will cut prices for its models X and S in China by 12 % to 26 % to make them more “affordable.” The company is actually taking a hit from the retaliatory tariffs imposed by China in the trade war with the United States.8

Today US car producers are confronted with external tariffs on imports of cars and car parts and other regulatory measures that push up their costs. In addition, a shift in consumer demand from traditional sedans to electric and autonomous cars increases the companies’ bill for technological transformation. In theory, external tariffs would allow car producers to increase prices and possibly make-up for additional costs. However, they cannot possibly tell ahead of time whether they can charge higher prices without the consumers restricting their purchases. Depending on their specific business model and cost structure, marginal producers may need to reduce their business or close down. General Motors, the number one US automaker, has just announced the potential closure of five North American factories and cuts of nearly 15,000 jobs.9

A second lesson, taught to us by Ludwig von Mises, is that restricting car imports will not bring about the hoped-for reduction of the current account deficit. According to him, the balance of international trade is always the outcome of the purposeful changes in the cash holdings of residents.10 If the latter are willing to decrease their monetary assets in order to buy domestic and foreign goods, exports will decline and imports will rise. The surplus of money goes abroad and the trade balance will turn negative. External tariffs and quotas influence the trend toward an international equalization of prices and wages, but do not affect cash holdings or improve the balance of payments. This will only reduce the total volume of international trade, hurting the welfare of both domestic and foreign consumers. Import restrictions are not creating jobs either. Foreign competition determines the level of domestic wages in nominal terms, but does not influence long-run unemployment, which is the result of keeping wages higher than the market equilibrium rate.

If US carmakers, employees, and consumers, in general, are not certain to benefit from the implementation of the protectionist measures, then who does? It seems that the only and real beneficiary is the current administration’s populist political agenda. This is especially true when a main cause of the large trade deficits — a sustained policy of credit expansion and inflation — remains unaddressed and the Fed’s path of raising interest rates is heavily criticized.

Nowadays the US dollar represents the de facto global reserve currency and many economies keep their currencies at a quasi-peg to it, including China. By doing so they implicitly treat the entire US money supply as “commodity money” offering goods and services in exchange for the newly created US dollars flowing into their official reserves. According to Mises, only a reduction in cash holdings by a policy of deflation would discourage residents from buying foreign goods.11 It follows that the US cannot narrow its trade deficit unless it ends its expansionist monetary policy. This would be the third lesson to retain from the current trade debate.

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